November 16, 2017O&G Advocacy Series: Addressing and Mitigating Corruption in the Oil and Gas Sector: A Dozen Warning Signs

A discussion with Dr. Alexandra Gillies, specialist in natural resource governance and transparency

As part of the Lebanese Center for Policy Studies’ (LCPS) ongoing effort to monitor Lebanon’s oil and gas sector, LCPS invited Dr. Alexandra Gillies from the Natural Resource Governance Institute to deliver a talk on 31 October and address a regional oil and gas conference in Beirut on 2 November 2017 about a report she coauthored titled “Twelve Red Flags: Corruption Risks in the Award of Extractive Sector Licenses and Contracts". This report highlights corrupt schemes that undermine the process of awarding contracts and licenses to oil, gas, and mining companies. LCPS sat down with Dr. Gillies to discuss her research, potential warning signs in the Lebanese petroleum sector, and how good governance in the sector can be fostered, maintained, and improved.

1. What prompted you and your co-authors to produce the “Twelve Red Flags” report and what is its aim?
We all know the oil sector attracts corruption, often at a catastrophic scale. In doing this research, we wanted to get into the details, and look at how corruption actually works in practice. Over the last few years, dozens of investigations have exposed the details of corruption cases in the oil, gas, and mining sector. We felt it was important to learn from past cases of corruption. Specifically, we aimed to identify the warning signs of the corrupt behavior that, if noticed, could have raised the alarm before it was too late.

2. In your report, you identify twelve red flags that help guide oversight actors in detecting corruption practices. How would you characterize these corrupt schemes and what are the most common types?
We looked at about 100 cases of corruption from forty-nine different countries. The most common type was bribery, where a company gave some kind of payment, gift, or favor to improve their chances at winning a license. Sometimes the bribes were a simple payment from a company to an official. In others, companies paid very high fees to politically-connected fixers, and the suspicion is that the fixers then shared this money with decision-makers. Bribery is indeed a widespread problem. But, we think that this prevalence may have more to do with the relative strength of anti-bribery laws. In other words, bribery cases may end up exposed and prosecuted more often than other kinds of corruption.

We also saw many examples of political elites using various schemes to profit from the oil and gas sector. This kind of participation can lead to very damaging conflicts of interest. The research revealed several red flags related to this practice. A public official or political figure, often called “politically-exposed persons (PEPs)”, can be the beneficial owner of a company, meaning the person who actually profits from the company—even if their name does not appear among the company’s registered owners or directors. Sometimes they hide their ownership by using layers of shell companies or particularly secretive ownership structures (such as nominee shareholders), or basing the company in tax havens where anonymous companies can thrive. In some cases, PEPs used proxies to represent them in oil sector deals. The red flags for this practice include company owners who are known associates or family members of a PEP, or who do not have the kind of qualifications or background expected for a corporate executive.

We reviewed many cases where the deals in question did not make good commercial sense. This can be a very practical set of red flags for oversight actors. Awards to unqualified firms are one example.
From our research, we found companies that were created only days before a contract was awarded, failed to meet the established pre-qualification standards, lacked the basic capacity to conduct oil sector business, and did not have websites or offices. The government should have a very strong explanation for such awards. Deals that feature unusual commercial terms are another red flag, such as upstream contracts with fiscal terms that overly benefit the company, or procurement contracts that appear very expensive to the state. Another red flag is the presence of seemingly unnecessary participants in a deal. Several cases involved the insertion of middlemen into deals who made no financial or technical contributions, but who likely siphoned off a share of the rents for themselves.

3. Based on the cases that you examined, what are the implications of these corrupt schemes for oil and gas producing states?
The financial costs are significant. In Brazil, for example, the national oil company was paying highly inflated prices for construction services and engineering services, as much as 15% to 20% of the contract value. In Nigeria, the government signed oil trading contracts that led to the loss of hundreds of millions of dollars of public money, all for the benefit of a couple companies closely tied to political elites. In other cases, corruption caused a license to go to an unqualified company, so the resource was extracted in a less cost-effective manner, which also lowers public revenues.

But the costs are not just financial. When corruption enters an oil or mining sector, government officials are no longer looking after the public interest. The institutions that are supposed to represent citizens are instead pursuing very narrow personal or political agendas. This dynamic can spread like a cancer and undermine democratic accountability across the government.

4. Given that Lebanon is in the process of awarding its first licensing contract and based on the country cases that you have examined where institutions are weak, where would you recommend oversight actors focus their efforts to prevent corruption schemes?
One piece of advice is to scrutinize the award of exploration rights, but do not stop there. Often corruption is most prevalent outside of these high-profile upstream deals. We have seen many corruption cases in subcontracting and local content, for example, as well as the transport and marketing of oil and gas. How are companies being chosen to work in these lower-profile parts of the sector? Who are the companies? Why did they win the business? What prices are they charging? The key is to fully map all the transactions where corruption could arise and make sure that transparency and oversight exist across the board.

5. How could parliamentarians or political parties that want to play an effective role in overseeing the sector make use of the “Twelve Red Flags” report?
Corrupt actors are not infinitely creative. The Red Flags report summarizes what suspicious behavior looked like in other countries and provides lots of real world examples. If parliamentarians and political parties familiarize themselves with these warning signs, they will be more likely to spot them in Lebanon. For licensing rounds or other key transactions, they could commission special hearings or reports to review the outcomes and ensure that they reflect good practices. Hopefully, this oversight can avoid becoming overly politicized. One thing that can help here is lots of transparency. The publication of quality information about the oil sector will enable a well- informed and constructive public debate and help prevent any one group from writing its own version of events.

6. How could this report help civil society and activist groups monitor the award process in the oil and gas sector?
Every time a license or contract is awarded, activists can examine whether the process and the participants feature any of the red flags we found, or any other attributes that seem suspicious. Then they should ask more questions and get more information, in addition to ensuring they have the whole story before jumping to conclusions. They can raise these questions and concerns with public officials or make them known in the media. Especially in countries like Lebanon where oil and gas are new concerns, it often helps if activists pair up with sector experts so they have access to necessary technical expertise.

To perform their crucial function, civil society needs transparency and opportunities to voice their views and concerns. The Extractive Industries Transparency Initiative (EITI) helps provide both, so I hope that Lebanon does move to join the initiative very soon. In the meantime, there is a lot the government can do to remain open about the sector as it evolves.

Many of the corruption cases that we examined came to light thanks to the intrepid efforts of civil society and journalists. Sometimes an activist group exposed the problem, and then law enforcement pursued the case. This shows how powerful and important independent oversight can be!